Last week, I had the pleasure of attending a small panel discussion between Jason Green (General Partner at Emergence Capital and investor in companies such as DoubleClick, aQuantive, and Ask Jeeves) and Reid Hoffman (Founder of LinkedIn, EVP at Paypal, and angel investor in over 60 startups such as Facebook, IronPort, Flickr, and Digg).

During the panel, the question of market vs team in venture/angel investing came up. Jason was in the “team” camp while Reid was more in “market” camp – but these are very broad generalizations and both emphasized the importance of both in any investment they make. Examples were discussed that give credence to both strategies working and it largely being a personal investing preference. On several occasions, I have heard this debate of market vs team with Sequoia and Kleiner Perkins being used as the poster children for each view point, respectively.

Its a discussion item that I’ve heard on a number of occasions, and I can see the arguments on both sides. While I sometimes hear the scenario being, would you rather invest in a great team in a crappy market or a crappy team in a great market, in general practice, the more realistic scenario for an investor may be, would you rather invest in a A+ team in an A- market or a A- team in a A+ market or a A+ team in an unknown/unclear market or an unproven team in a A+ market. This is where, at least for me personally, I spend more time thinking about.

When the VC funnel is 1 investment out of 100-200 companies/business plans seen, the expectation is that they are choosing from a few companies that have the A+/A- or A+/unknown dynamic – and have already weeded out the B or C teams and markets in the vetting process.

It can be difficult to do a post-mortem on successful or failing companies to try to see a trend because, as the saying goes, success has many fathers (in this case it is both people and market) and failure has none. People often attribute success of a company to the founding/management team (which may or may not be accurate) but the more interesting question is, “before the company was successful and was a startup with 3 guys and powerpoint deck, how did the VCs rate the team.” Also, there are enough examples of what is initially felt to be a great team failing.

I was not personally familiar (so please correct me if I am inaccurate) with some of the larger Southern California successes when they were just being founded but from hearsay, the teams at LowerMyBills and MySpace had trouble raising venture capital very early on yet went on to becoming huge successes and the teams eventually proving themselves to be great founders and operators. While they both raised venture funding later in their lives, it was beyond the very early stage and they had proven themselves on several fronts from an execution perspective.

So, how is this post relevant to entrepreneurs (and not just contributing to the academic exercise of VC discussions)? Here are a couple of points

All VCs want the A+ team and the A+ market. Be realistic with how you grade yourself. Put yourself in the following scenario. If you inherited $5M from a rich uncle and his only criteria is that you had to use all the money to invest in 1 company. Would you pick your own startup/team? Would you pick another team?

If you honestly put yourself in the “not A+ team” (hopefully not a C team but maybe a B+ or in the unknown/unproven camp), the VC will make the same assessment – and more likely, will be much harder graders than you (though he/she may never say this as it can obviously be quite offensive and VCs already have a fragile reputation to maintain – check out this post from Healy Jones, a friend who used to be at Atlas Ventures), make sure you pick an exciting/large/growing/hot market. Then figure out how to enhance your team though recruiting another co-founder or bringing in management/advisors/directors who an fill in gaps and raise your team assessment. You can ask the VC directly to gather some insight into this by asking for “what holes they feel the team would need to fill out”

If you have assembled a strong team and are either still seeking the right market/business or know the current business may not that interesting (you will get this feedback very easily and quickly from the VC because it less offensive), take the opportunity in meetings with VC and others to gather feedback to adjust your plan. While the VC may not have the silver bullet on the exact business you should pursue, we see a lot of companies and trends and can give good insight into how to think about your business from an investor perspective. Hone your plan and use the feedback to make your business stronger.

If you are passionate about your startup but are very self aware and realize that you fall short on both team and market, take it in stride and use your time to find the best startup to join. Network and surround yourself with people with insight into companies that do fit the criteria. Early employees at Google, Ebay, Yahoo, Microsoft, LowerMyBills, MySpace, Facebook, etc aren’t doing too badly : ) . And maybe after some successful experiences at other startups, you will elevate your “team” grade to the point of being “fundable”

Lastly, if you are the A+ team in the A+ market (or at least that is what you are told by several VCs giving you term sheets – congrats…but don’t pat yourself on the back for too long. Plenty of VC funded startups fail for many reasons. Team dynamics/culture, reacting too slowly to changing market conditions, competitors emerging that out-execute, and just plain bad luck. As Reid stated on several occasions, BE PARANOID…and he said when teams he invests in stop being paraoid, that is when he gets really really worried.

Very good article. I certainly get your perspective as a VC but do you see same thing for angel investors as well? Of course all investors want to see A+ team but I am curious whether angels are willing to compromise team over other things such as market, traction, product and etc.